In theory, Turkey's flag carrier occupies an enviable market position, with its main hub at Istanbul ideally located to serve the mature economies of western Europe, the mainly affluent, if volatile, economies of the Middle East, and the emerging markets of eastern Europe and the former Soviet Union.
In practice, however, implementing a strategy to capitalise on this potential is fraught with difficulties. Most of the hurdles are thrown up by the vast political web that Turkish Airlines has to operate in - a web which is spun around diametrically opposed philosophies. On the one side, Turkey has a thriving private sector economy, after a sweeping deregulation in many sectors that began in the 1980s. On the other is the continued control exercised over the carrier by both the complex state bureaucracy and elected officials.
While previously THY's managers would know with some degree of certainty how this state interference would manifest itself, the situation has become less predictable since the election of an Islamist-led coalition in July 1996 and its subsequent collapse in June this year.
Apart from direct state interference in such areas as network, pricing and accounting, Turkish Airlines is facing three main challenges that are blocking its development or threatening to do so. These include the constrained Atatürk airport in Istanbul, which prevents THY from operating a proper hub; the continued uncertainty over the carrier's ambitious US$3 billion fleet renewal and expansion programme, which is central to establishing its presence in the international arena; and the threat of aggressive home-grown competition.
Despite these many hurdles, however, THY is one of the healthiest state-owned carriers in the world. Since Atilla Çelebi took over as chief executive in 1994, he has overseen a U-turn in the carrier's finances. In 1995, the carrier reported its first net profit since the 1980s with a small US$8 million surplus on revenues of $1.1 billion. Profits jumped six-fold to a $53.4 million net gain in the year to 31 December 1996 on revenue growth of only 8 per cent.
Indeed, a cursory glance at THY's balance sheet shows the carrier to be in an extremely strong position. The debt:equity ratio is hovering around 1:1 now that Çelebi has focused on reducing the carrier's debt burden. 'Since I took office in 1994 we have never borrowed any money from any bank,' he boasts. More than mere pride is at stake: Turkey has a high-inflation economy. 'At one stage we were paying interest rates of 156 per cent,' explains Çelebi. 'It was not possible even to finance the interest.'
The vagaries of Turkish accounting practice mean that the carrier's balance sheet cannot be directly compared to those of its western counterparts, however. 'Quite frankly, Turkish Airlines' accounts are a nightmare,' concedes one Istanbul-based analyst. 'They are fairly detailed but don't always include all the items.' High inflation - this year is expected to mirror the 1996 average of 85 per cent - means that Turkish companies are allowed to revalue their assets at the end of each financial year. This allows THY to boost its equity, and these credits as well as rights issues taken up by the government in recent years have in turn been used to bolster the balance sheet.
But the flip side is that the carrier has to put up with a lot of state interference. The government retains approval over fare hikes on both domestic and international routes, although 1996 saw a departure from the established practice of approving increases only twice a year - THY was allowed to raise domestic fares five times. This meant that fares in the home market rose 90 per cent - five points above the inflation rate.
The Istanbul-based analyst claims that the carrier is required to keep its cash reserves in a 'pooling' account along with all other state-owned enterprises. This doesn't preclude THY from accessing the funds, but it does limit the carrier's flexibility in how they are used.
Çelebi says this has been scrapped, but admits that remaining 'rules' mean the carrier's cash, which he puts at between $50-90 million depending on the time of year, must be kept in state-owned banks.
Furthermore, THY is also required by the government to provide 50 per cent discounts to bureaucrats, politicians, teachers and soldiers flying into the so-called Ohal security zone in the southeast of the country (where Kurdish separatist groups are waging a guerrilla war in a bid to win independence from Ankara). These discounted tickets are then reported in THY's accounts as receivables irrespective of whether the government has paid for them. The analyst says these receivables amounted to some $30 million in 1996. Çelebi refuses to confirm this figure but admits that the 'payments have not yet been made but we are trying to work out how to get these funds.'
Political considerations are also preventing THY from making the most of its main hub at Istanbul, where the domestic and international terminals are operating way beyond their design capacity. Plans for a new terminal building have been around for some 15 years, but the government has refused to sanction the official budget of $250 million so far - indeed one airline insider estimates the cost will now be closer to $1 billion.
Çelebi boasts of how successful the hubbing operation has become since the carrier started expanding its route network with the aim of feeding more passengers through the airport. But he is also forced to admit that the constraints are 'a big handicap . . . it's not a joke anymore; we are already falling behind'. But he insists that the new prime minister, Mesut Yilmaz, has 'himself given the order to expedite the building of the new terminal and construction will start very soon.' Building work is expected to take two and a half years to complete.
The other, equally pressing, issue held up by THY's political masters is the planned $3 billion aircraft order. Under its somewhat ambitious business plan, the carrier is looking to grow its fleet from around 65 aircraft now to 100 by the year 2000. The carrier needs the new aircraft to continue its capacity growth - in the high-season it has trouble meeting demand - and to replace its 14 ageing A310s and its older B737-400s. But the order, which could be for as many as 60 aircraft including options, has been delayed as the three different governments over the last 18 months have attempted to negotiate offset deals worth 50 per cent of the total order for the country's two aerospace companies.
In a bid to wrest the full order from Boeing, Airbus is thought to have offered Ankara participation in the A3XX, but one source indicates that the government preferred to focus on 'current technology' rather than a project that wasn't yet off the drawing board.
THY is believed to want to order 32 B737-800s, with another 20 or so on option, and at least seven A330s. The carrier is also expected to convert options on five A340s. At presstime, reports in Turkey suggested that the new prime minister had asked the airline to re-evaluate its fleet plan. As a result, THY missed yet another manufacturer-imposed deadline on 31 July.
In late July. Çelebi refused to be drawn on the details of the order, but admitted that unless he had a government decision by the deadline 'it will not be easy for us to go ahead with the [fleet] plan.' Taking into account the number of firm aircraft the carrier is likely to order, it seems inconceivable that THY could replace nearly half of its fleet and add another 35 aircraft by the new millennium anyway.
Moreover, the political instability has some bankers questioning how THY intends to finance such a massive order if it sticks to its plan to do without sovereign guarantees. A London financier says Turkey's political risk makes it very difficult 'to bank it for more than three years at present. This is bound to have implications for THY's fleet renewal.'
Çelebi declines to say if he will seek sovereign guarantees, but points out that the present fleet contains a mix of aircraft with and without government guarantees, and says the carrier has never had problems financing aircraft in the past. The Istanbul-based analyst agrees: 'The political risk has been exaggerated in the past. It's outweighed by the strength and growth of the private sector.' Turkey's GNP grew by 8 per cent last year and is forecast to do the same in 1997.
But not all the meddling by politicians has negative connotations. Take the recent appointment of Cem Kozlu as chairman of THY. Çelebi, who relinquished the chairman's role to Kozlu in early July, welcomes the return of his former boss. Kozlu is the man who 're-invented' THY in the late 1980s in preparation for its partial privatisation. He left to pursue a career in politics, where he served as a member of parliament for the Motherland party - the senior party of the ruling three-party coalition. 'We will be following up what we started,' says Çelebi.
There is still a lot of following up to do if Kozlu is to fulfil his original task of bringing 49 per cent of THY to the market; so far only 1.8 per cent is listed on the Istanbul stock exchange.
The carrier has been on the privatisation list for the past eight years but the new government's intentions are unclear, in stark contrast to Çelebi's views. 'Privatisation is a must . . . the airline is now ready,' he says, rejecting suggestions that it needs a strategic partner as was originally envisaged.
But Safi Ergin, chief executive of Turkey's largest private operator Istanbul Airlines, is sceptical that the sell-off will happen soon. 'I don't believe THY will privatise in the next couple of years,' he says. Other sources point to the fact that the ruling coalition is unlikely to take a decision of such magnitude, as it is unlikely to survive much longer than the end of this year, when fresh elections are expected.
There is no doubt that THY is a more attractive proposition than it was when the initial public offerings took place in the early 1990s. The carrier has grown its capacity by almost 75 per cent between 1992 and 1996, while keeping the number of staff almost the same, which has led to a doubling in productivity (see charts). Since 1994, Çelebi has cut labour costs from around 26 per cent of total costs to 18 per cent.
Management has kept salaries low by playing the job security card: the last two years have seen five bankruptcies among the private Turkish carriers, leaving only eight in the market (with all but two of them operating as pure charter carriers). Moreover, THY has considerably boosted its image by improving its service and increasing its marketing activities. And despite its desire to replace some of its 'older' aircraft, the carrier boasts an average fleet age of 3.3 years excluding its three B727 freighters.
This should leave THY well prepared to meet the competitive challenges. The flag carrier says the requirement to operate 'social' routes makes its domestic network, which accounts for 55 per cent of revenues, unprofitable. Moreover, deregulation of the home market in 1996 has allowed the two leading charter operators, which have prospered as tourism continues to grow, to launch scheduled services.
Turkey's biggest private operator, Istanbul Airlines, has the largest scheduled presence with 12 routes. The airline carried 375,000 scheduled passengers last year and Ergin says he expects this to jump to 550,000 this year, giving the carrier about 10 per cent of the market. In two to three years Ergin believes he can grow this to 20 per cent.
Istanbul Airlines, which operates seven B727s, six B737-400s and three B757s, earns 15 per cent of its revenues from these operations, says Ergin; the remainder comes from its international charter business. Revenues in 1996 were up only 1.4 per cent to US$233 million while profits fell almost 45 per cent to US$720,000, reflecting the expansion into scheduled operations.
The other entrant into scheduled domestic operations is Onur Air - the second largest private operator with a fleet of three A321s, four A320s, three A300s and four MD-88s. Onur Air currently operates two scheduled services, but financial director Cüneyd Sen confirms that there are plans to expand more aggressively, although he refuses to be drawn on details.
The two private operators, both vertically integrated into two of Turkey's leading leisure groups, are keen to stress that they don't pose a competitive threat to THY. Certainly their current size and market position support this statement, along with statistics quoted by Ergin. He says 80 per cent of Istanbul's domestic traffic is due to the carrier stimulating the market with fares that are on average 20 per cent below those of THY. Compared to 1994, when private operators had only 5 per cent of a domestic market of 4.4 million passengers (from charter operations), thay had 14 per cent out of a total market of 5.8 million passengers in 1996.
Ergin makes the same case for his planned expansion into European scheduled operations. He says THY has been blocking the granting of a licence but argues that the flag carrier has nothing to fear, and claims he has had indications from the government that he could receive the go-ahead soon. 'If we get scheduled rights it won't damage THY. Our charter flights already compete with them.' He points out that market share won by the independents abroad has come at the expense of foreign carriers (see chart).
Ergin identifies nine major European cities as the targets for his first scheduled destinations: Amsterdam, London, Brussels, Paris, Frankfurt, Cologne, Munich, Berlin and Vienna. The four German cities reflect the carrier's strength in the German charter market, which accounts for 40 per cent of its international revenues.
THY, on the other hand, is trying to shift the focus of its international operation away from western Europe, where Çelebi says yields are suffering because of intense competition from carriers like Lufthansa and British Airways. Moreover, a large component of European traffic is low-yield leisure passengers.
The strategy now is to capitalise on THY's 55 per cent break-even load factor - the lowest in Europe - by cementing its presence in the higher yielding markets of central Asia serving the so-called Turkic republics, where there is a high preponderance of ethnic Turks. THY also plans to expand in the Far East, where yields remain strong, as well as Africa and the Americas. THY now flies to Tokyo, Osaka, Bangkok, Singapore,Jakarta, Johannesburg, New York and Chicago.
The problem the carrier faces is that it lacks the longhaul capacity to access more markets. THY is operating its newest route, Istanbul-Johannesburg, with an A310-300ER. This service will be extended to Cape Town at the end of the year.
THY is currently looking for a US partner, partly to help access South America, and Çelebi confirms he has talked with both Delta Air Lines and American Airlines. Although American offers a stronger Latin American presence, THY is pursuing an alliance with a carrier aligned to Delta. A block-space deal with Swissair to Zurich and Geneva will be extended to the US, with THY codesharing on the Swiss carrier's services, says Çelebi. The carrier has also started codesharing with Asiana on the latter's twice weekly Istanbul-Seoul services. From October THY will match those frequencies with its own services.
Turkey looks set to remain outside the European Union's single market for some time yet, due to its presence in northern Cyprus, the on-and-off friction with Greece, and questions about its human rights record. This means THY continues to enjoy bilateral protectionism, which should benefit the airline as it continues to adapt to the more competitive environment.
Home-grown competition can only help to hone THY and help ready it for eventual privatisation. A commercially driven aviation sector would then be firmly established when the EU deems it appropriate to admit Turkey, which is already more advanced in many sectors than the EU members-in-waiting in eastern Europe.
Home-grown competition can only help to hone THY and help ready it for eventual privatisation. A commercially driven aviation sector would then be firmly established when the EU deems it appropriate to admit Turkey, which is already more advanced in many sectors than the EU members-in-waiting in eastern Europe.
Source: Airline Business
